The Music Industry Is About To Change, And Apple And U2 Are Just The Beginning

Editor’s note:Philip Inghelbrecht is a co-founder of Shazam, investor in 8tracks, and a paying Spotify subscriber.

Of all industry roller coasters, the music industry must be the wildest.

The last 30 years reshaped the business in a way we never could have imagined. Music as a product changed dramatically (e.g. from LPs to MP3s) and the ups and downs in worldwide sales would make the most hardened theme park visitor queasy. Nonetheless, we have yet to experience the biggest switchback on this rollercoaster ride.

The clues for what’s around the next turn lie in a sister industry — movies.

Let’s start by taking a look at the music industry. According to the IFPI (International Federation of the Phonographic Industry) revenue peaked at $38bn worldwide in 1999, collapsed down to $16 billion (2011), edged up somewhat the year after, only to fall back down again to $15 billion last year (2013). The transition from analogue to digital played an important role in all of this: it made music piracy easy for the casual music fan. Piracy is real and doesn’t need further explanation. The industry, however, makes it the scapegoat, conveniently forgetting some other (often self-inflicted) wounds.

For starters, the $38 billion peak was artificial, and not a reflection of “steady or ongoing” music purchases. In the run-up to 1999, a lot of people replaced their LPs with CDs, often buying the same album twice. What goes up (higher) must come down (faster/further). Secondly, packaging changed.

We used to buy albums, or a bundle of songs. That means that the casual fan typically ended up paying 3x to 4x more to get the few songs they really wanted. Today, we can buy tracks piecemeal, spending minimal dollars. And thirdly, record labels (still) get it wrong on pricing. Recording executives have the tendency to target diehard fans with steep prices; they misjudge the pricing elasticity of music (as David Pakman explained in a recent blog post).

It’s not inconceivable that Spotify would land 5x more paying subscribers if the price-point were $3/mo (currently set at $10/mo). A lower price point beats the inconvenience of piracy, makes it more appealing to casual fans, and potentially opens up developing countries.

I’m probably missing a few causes — and some that I mentioned could be argued. That’s not the point here. The fact is that the music industry has been suffering for 15 years, and remains fragile as it is today.

Meanwhile, the movie market blossomed from $80bn to $88bn in 2013 (source: PWC). The industry is projecting this figure to reach $100bn in the next few years to come, with growth across countries worldwide. What’s going on? Movies have gone (mostly) digital, too. And piracy is no less of an option through services like XBMC (Xbox Media Center), Popcorn Time and the plethora of Torrent services.

The key difference lies in what’s called “windowing”, i.e. the creation of exclusivities (for the exact same movie or TV show) around format, time, geography, etc., with each sold to the highest paying customer.

For example, when a movie is first released, it’s typically only available in theaters. Avid movie buffs will pay $10-$15, just to see it once. After that it becomes available on DVD (again $10, this time to own and view multiple times), then Video-On-Demand (think $4 to view over 48-hours), then pay-TV (e.g. HBO at $10/mo, with limited scheduling) and streaming (e.g. Neftlix at $8/mo, easy scheduling), eventually ending up for free (e.g. TNT, assuming you forget about the ads). I skipped and rounded a few release windows here, but it gives you the gist.

The same piece of content is sold over and over again, each time maximizing the end-user’s willingness to pay. Windows of exclusivity can last for decades and be cut across anything that allows for differentiation: format, geography, quality, etc.

Movie and TV content owners are masters at this game. In many ways, it’s a superior form of packaging and pricing, the very two things the music industry fumbled on.

But this is about to change, because on-demand music subscription services (such as Spotify, Rdio, Rhapsody, etc.) will unlock the opportunity for windowing in music.

Today, when a music track or album is released, it’s pretty much available anywhere, at the same time. There have been the occasional exceptions — for the longest time, Kid Rock would not sell on iTunes; instead he (smartly) sold bundled CDs only. In general, however, record labels fail to charge a little (or a lot) more for the artists that fans really care about.

Windowing is where they will start taking a page out of the movie/TV book. Windowing in music has become easy through the inherent streaming nature of subscription services. This means that on-demand services can buy (temporary) exclusive access to a certain artists, tracks or albums.

For example, Beyonce’s next album might be available on Spotify exclusively for the first month (Spotify would pay millions of dollars for this exclusivity). The same first-month exclusivity right can be further sliced and diced by market (for instance, Spotify in the US, Rdio in Europe and Google Play everywhere else), by format (if Deezer has the worldwide exclusive on uncompressed tracks), and so on. As content gets “older,” it becomes more widely available, possibly at a lower cost or completely free.

Continuing with the same example, after the first month, Beyonce’s album could be streamed pretty much anywhere for paying subscribers (only); free on-demand users, however, may have to wait another year or so before they get to stream it, too.

In a world where music is distributed through release windows, casual music fans will find all the music they want in a single on-demand service. They are happy to wait until the music becomes available. Avid music fans, however, may find themselves paying for two (or more) on-demand providers.

For example, while Beyonce might be available on Spotify, Jay-Z could only available on Beats. They have no choice but to pay for Spotify and Beats in order to get immediate access to both.

Ironically enough, windowing in music also plays in the hands of the subscription services, especially as it comes to acquiring customers. For one, they can’t compete on price because labels won’t let them (if you ever want to read a hysterical, albeit exaggerated, story on this, then read this blog post by Michael Robertson). Second, competing around (unique) technical features is pretty short-lived; they are either insufficiently differentiating to the consumer and/or get copied in your competitor’s next release.

Exclusive access to music, however, is the most compelling consumer argument to onboarding a new subscriber. Beats (or Apple) is rumored to have paid a whopping $100 million to be the exclusive first-month distributor of U2’s new Songs of Innocence. It’s Apple’s marketing cost for drumming up more Beats subscribers (or stealing them away from Spotify). Jimmy Iovine, a top recording executive who recently joined the Apple ranks, taught them well.

So windowing seems to be the answer to many. Paying for multiple streaming services at the same time is no more absurd than people paying for both Netflix and HBO (and a few VODs every month, on top of that). It re-establishes something that the Silicon Valley has always found hard to acknowledge: content is king.

That’s great news for the recording industry, potentially good news for the streaming services (i.e. multiple can survive and thrive at the same time), but questionable for the avid music fan. Their number one hobby is possibly getting a whole lot more expensive. However, since people are willing to part from $100+ to attend a concert, it’s probably the least of all issues.

The user experience, however, is more problematic. I simply can’t see myself switching around multiple apps and services to access my entire catalogue or music library. In the same way that Sonos let’s me “mix” multiple music services in a unified playlist, I expect new companies to address this particular issue. Bop.fm is one of those seemingly on the right track.

The only unknown in this for me are the artists themselves. Under the system of windowing, it’s most likely that only the bigger bands will get to partake, and even then, it’s not clear if record labels will share the surplus dollars. Let’s hope for the people who create all these beautiful sounds it’s less gloom and more bloom or boom.